Financial Accounting Book (MBA) Level

SCHOOL OF BUSINESS
evsjv‡`k D›gy³ wek¦we`¨vjq
MBA 1303
Financial Accounting
Course Development Team
Writer
Dr. Saroj Kumar Saha
Professor, Department of Accounting
Dhaka University
Dr. Monjur Morshed Mahmud
Professor, Department of Accounting
Chittagong University
Dr. A.T.M. Tofazzel Hossain
Professor, School of Business
Bangladesh Open University
Editor and Style Editor
Dr. Qazi Mohammad Galib Ahsan
and
S.M. Miraj Ahmmod
Associate Professor, School of Business
Coordinator
Dr. Qazi Mohammad Galib Ahsan
This book has been published after being refereed for the students of
School of Business, Bangladesh Open University

MBA 1303
FINANCIAL ACCOUNTING
SCHOOL OF BUSINESS
evsjv‡`k D›gy³ wek¦we`¨vjq

MBA 1303
FINANCIAL ACCOUNTING
Further Contributor
Editor:
Md. Serazul Islam
Assistant Professor
School of Business
Published by: Publication, Printing and Distribution Department, Bangladesh Open
University, Gazipur - 1705. © School of Business, Bangladesh Open University. Date
of Publication : July, 2008. Computer Compose & Desk-Top Processing :
Mohammad Wahiduzzaman Howlader, Cover graphics: Abdul Malek, Cover Design:
Monirul Islam, Printed by : Mania Art Press, 53/1, North Brook Hall Road,
Banglabazar, Dhaka-1100.
All rights reserved by the School of Business, Bangladesh Open University. No part of this book
can be reproduced in any form without proper permission from the publisher.

Preface
A text book titled Financial Accounting is designed and developed for
the MBA students of Bangladesh Open University. It is written in
modular form and is the first of its kind on Financial Accounting in
Bangladesh. The lessons have been so designed that learners find them
easy to understand.
The book has eight units comprising 49 lessons. We do not claim it to be
an original contribution. Rather it should be regarded as a text book of
ideas from various renowned authorities in Financial Accounting. We
have also quoted from different text books on Accounting usually
followed by post-graduate students in our universities. Our endeavour
has been to present the lessons in a very lucid manner so that they can be
understood and assimilated by an average distance learner of the MBA
program within the stipulated period of a semester.
Each unit is almost equivalent to one chapter of a conventional text book
and contains four to eight lessons. Each of them starts with unit
“highlights``. In fact the lessons are like the lecture notes of a classroom
teacher, each starts with “lesson objectives” and ends with “review
questions”. The review questions include essay type questions, some real
life problems and case studies. We hope that self learners will not find
much difficulty in understanding the lessons by themselves and will need
only a little help from the tutor.
Because of a severe time constraint, we have had to take the real life
problems from conventional text books of western origin. We hope to
develop some cases extensively in the context of Bangladesh, so that our
MBA students can relate their learning to their immediate environment
and reality.
We are grateful to the honorable Vice Chancellor of BOU, Professor Dr.
M. Farid Ahmed who gave us the most needed support and enthusiasm to
write this book. Dr. Qazi Md. Galib Ahsan, S.M. Miraj Ahmmod, and
Md. Serazul Islam, School of Business, BOU have made us indebted by
their untiring efforts in editing and style editing each and every lesson
diligently and meticulously. Our thanks are also due to Mohammad
Wahiduzzaman Howlader, WPO of the School of Business, for doing
very best to complete the task of desktop processing on time.
We shall feel rewarded for our labor if both general readers and self-
learners find this book worthwhile and useful.
Dr. Saroj Kumar Saha
Dr. Monjur Morshed Mahmud
Dr. A.T.M. Tofazzel Hossain

Course : Financial Accounting (MBA 1303)
1. Financial Accounting - Basic Concepts & Process : The nature
and environment of financial accounting; Accounting systems and
procedures employed; Debit credit and basic equation; Journalizing
& posting to the ledger.
2. Unadjusted Trial Balance & Adjustments : Unadjusted trial
balance; Adjusting entries, Reversing entries; Inventory and related
accounts; closing entries, Post closing trial balance.
3. Preparation of Financial Statements & Balance Sheet : The
Income Statement & irregular items; Balance Sheet; Merchandise
operations; Statement of cash flow.
4. Accounting for Fixed and Long Lived Assets : Property, Plant and
equipment-characteristics, Acquisition, valuation; Costs subsequent
to acquisition; Depreciation-cost allocation methods, Factors
involved; Methods of cost apportionment; Special depreciation
methods; Selecting a depreciation method; Special depreciation
issues, Disposition of plant assets.
5. Accounting for Current Assets : Inventory- classification,
Management control; Basic issues, Physical goods to be included,
Costs to be included; Cost flow assumptions-FIFO, LIFO, average
cost; Accounting for Accounts Receivable.
6. Partnership Accounts- General Outline : Preparation of partners'
capital account & current account; Preparation of profit and loss
adjustment account and balance sheet; Valuation and Treatment of
Goodwill; Admission and Retirement of a Partner; Dissolution of
Partnership.
7. Company Accounts : Issue and allotment of shares; Forfeiture and
re-issue of forfeited shares; Issue of preference shares and
debentures; Issue of bonus shares.
8. Preparation of Company Final Accounts : Income statement
(Trading and profit & loss account); Retained earning statement
(Profit and loss appropriation account); Balance sheet as per
provisions of Companies Act- 1994 and SEC Act 1993.

CONTENTS
Page
No.
Unit -1 Financial Accounting - Basic Concepts and Process
Lesson - 1 : The Nature and Environment of Accounting
Lesson - 2 : GAAP (Generally Accepted Accounting
Principles) and Conceptual Framework of
Accounting
Lesson - 3 : Basic Accounting Equation
Lesson - 4 : Fundamentals of The Recording Process
01
03
11
20
25
Unit - 2 Accounting Process Journal to Trial Balance
Lesson - 1 : Journal : The books of Original Entry
Lesson - 2 : Special and General Journal
Lesson - 3 & 4 : Ledger Accounts
Lesson - 5 : Trial Balance
Lesson - 6 : Adjusting Entries and Adjusted Trial Balance
Lesson - 7 : Closing and Reversing Entries
51
53
57
66
78
94
100
Unit - 3 Accounting for Merchandising Operations
Lesson - 1 : Merchandising Activities
Lesson - 2 : Financial Statements
Lesson - 3 : Measuring Merchandising Inventory
Lesson - 4, 5 & 6 : Preparing Financial Statements
Lesson - 7 : Statement of Cash Flows
111
113
118
123
128
163
Unit - 4 Accounting for Current Assets
Lesson - 1 : Current Assets : Accounts Receivable
Lesson - 2 : Estimating Uncollectible Accounts Expenses
Lesson - 3 : Writing off and Uncollectible Accounts
Receivable
Lesson - 4 : Inventories
Lesson - 5 : Inventory Valuation Methods
Lesson - 6 : Periodic Inventory System
177
179
182
186
190
199
205
Unit - 5 Accounting for Fixed and Long Lived Assets
Lesson - 1 : Property, Plant and Equipment : Definition,
Classification and Determination of Cost
Lesson - 2 : Depreciation
Lesson - 3 : Methods of Computing Depreciation
Lesson - 4 : Disposal of plant Assets
Lesson - 5 : Accounting for Natural Resources and Intangible
Assets
217
219
226
230
238
243
Unit - 6 Partnership Accounts 251

Lesson - 1 : Principles of Partnership Business
Lesson - 2 : Accounts of Partnership Firm : General Principles
Lesson - 3 & 4 : Practical Problems on Partnership
Lesson - 5 : Valuation and Treatment of Goodwill
Lesson - 6 : Admission and Retirement of a Partner
Lesson - 7 : Dissolution of Partnership
253
259
267
279
286
294
Unit - 7 Accounting for Issue of Shares and Debenture
Lesson - 1 : Definition and Features of Company
Lesson - 2 : Share Issue
Lesson - 3 : Forfeiture of Share
Lesson - 4 : Pro-rata Allotment of Share
Lesson - 5 : Redemption of Preference Share
Lesson - 6 : Bonus Shares
Lesson - 7 : Debenture Issue
Lesson - 8 : Redemption of Debenture
313
315
325
337
342
348
352
364
369
Unit - 8 Final Accounts of Joint Stock Companies
Lesson - 1 : Final Accounts and their Components
Lesson - 2 & 3 : Legal and Professional Guidelines Relevant
to Financial Statement
Lesson - 4 & 5 : Practical Problems
385
387
402
420

1
FINANCIAL ACCOUNTING - BASIC
CONCEPTS AND PROCESS
From the discussion of this unit students will be able
to understand:
The nature of accounting
The users of accounting information
The types of financial statements
The Generally Accepted Accounting Principles
The Accounting Equation
The fundamentals of recording process

School of Business
HC fªù¡ M¡¢m b¡L−h
Unit-1 Page-2

Unit-1
Lesson-1: The Nature and Environment of
Accounting
Lesson Objectives
After you have studied this lesson, you would be able to:
describe the nature of accounting
explain the meaning of accounting
state the environment of accounting
identify the uses and users of accounting information
1.1. Introduction
Business creates economic values in the society through production,
distribution and other activities, that helps this process of creation of
values like banking, insurance, transport etc. In these ventures, business
needs to invest financial resources in the form of material, man and
money. All these investments and activities of business houses
ultimately create goods and services for the people of the world at large
and in turn help to raise their welfare and living standard. But one of the
major objectives of business houses is to earn profit by performing these
activities. In terms of business finance, this is maximisation of wealth of
the person or persons who made these investments in the business
houses. Now the resource providers of the business houses must want to
know whether the activities of the houses, which involve incoming and
outgoing of financial resources, have achieved the objective for which
the resources have been invested by them. For this the business houses
felt the need of installing a system, which should collect the requisite
information, keep a systematic record of this information, process them
accordingly to report to the interested parties about the outcome of all
these activities. This system is long being known as accounting system
and mainly a financial accounting system.
The resource
providers of the
business houses must
want to know the
activities of the
houses, which
involve incoming
and outgoing of
financial resources
and the objectives
for which the
resources have been
invested.1.1.2. Nature and Environment of Accounting
Accounting is a service function. It serves the users with accounting
information regarding the economic activities of the business.
Accounting as a service activity provides managers, taxpayers, directors,
or whomever, with the financial information they need to make informed
decisions. Whether the nature of activities, being performed by
accounting is efficient or not, it depends on the level of satisfaction of the
users. With continuous change and development in the world business,
increase in complexity in business above to globalization of business,
rise in competition, the decision making process in a business has
become more complicated. In these circumstances, importance of
decision making in proper perspective has increased manifold.
Implementation of the decision being taken, need constant monitoring
and control by the management, for which constant flow of comparative
information is necessary. Moreover, the separation of management from
Accounting as a
service activity
provides managers,
taxpayers, directors,
or whomever, with
the financial
information they
need to make
informed decisions.
Financial Accounting Page-3

School of Business
ownership has made the preparation of final reports or statements by the
management to show the level of efficiency with which the management
performed its functions with resources vested to them with specific
objectives. In modern days, accounting must supply all necessary
information for the proper functioning of all these management’s
functions. So, the accounting personnel, now – a – days must understand
what sort of information, when and in what form necessary for the
management in performing their duties in addition to keeping proper
records of financial events. This is exhibited in diagram-1. So the nature
of accounting is not a fixed one, it changes with the change in nature of
need of the users of accounting information. The user’s need for
information is mainly being dictated by the environment in which the
business is being operated. Besides the need of management, the
accounting system should also satisfy the need of other users, inside or
outside the business.
Diagram-I: Need of accounting information for different
management function.
Planning Information
- Comparison of financial alternatives
- Projection of Profit from Sale.
- Budget of Cash requirement
Control Information
- Report on actual costs in
comparison with projections
- Report on cash position or
inventory level
Evaluation Information
- Annual Reports
- Financial Statement
The nature of
accounting is not a
fixed one, it changes
with change in
nature of need of the
users of accounting
information.
Source: Needs, Anderson, Caldwell : Principles of Accounting 2nd Ed.
(Houghton Miffin, p.4.
1.1.3. What is Accounting:
Upto 60s, accounting was generally being treated as a record keeping
system. In 1941, American Institute of Certified Public Accountants
(AICPA) defined accounting as “the art of recording, classifying, and
summarizing in a significant manner and in terms of money, transactions
and events which are, in part at least, of a financial character, and
interpreting the results thereof.1
” This definition of accounting relates to
the operational part of accounting function without having any reference
to the objectives of keeping records and need of users of information for
decision making. As discussed earlier, the decision making process has
become more complex and complicated in modern day business world.
This decision making process should be based on correct and relevant
data. Moreover, due to continuous changes and development in
technology, product diversification, constant change in demand of
The accountant must
not only accumulate,
process, store and
communicate
financial
information, but
must understand the
need of the users,
time when the
information is
needed and the form
in which the
information to be
supplied.
1
Committee on Accounting Terminology, Accounting Terminology Bulletin No. 2. (New
York : American Institute of Certified Public Accountings, 1953) p-9.
Unit-1 Page-4

consumers and competition operating the business activities as per plan
has become uncertain. These require continuous flow of information
regarding day to day operation of business houses. This needs for regular
flow of information in turn influences the designing of the accounting
system. Taking into consideration these changes, AICPA in 1970 has
given a modern definition. As per AICPA, the function of accounting is
“to provide quantitative information, primarily financial in nature, about
economic entities that is intended to be useful in making economic
decision2
. An economic entity is being understood as a unit such as a
business that has independent existence. So, accounting in present days,
has already been established as an important sub-system of management
system of a business entity. The proper and successful functioning of a
business house depends on effective functioning of its accounting
system.
The need for regular
flow of information
regarding day to day
operation of
business influence
the designing of the
accounting system.
A business house is an artificial entity run by human beings. It supplies
all information relating to its operation, resources owned, liability and
others through accounting reports and statements. As such it is also
called “the language of the business".
So accounting is not an end in itself. Instead it is a system that identifies,
measures, records and processes events, mainly of financial nature
relating to an identifiable economic entity and communicates in an
understandable form to its interested users.
Though, accounting has been discussed mainly in relation to business,
but this knowledge can equally be applied in non-business entities and
even in households.
Diagram – 2: Accounting as an information system
Action
Decision Makers
Business Activities Information
needs
Information
Data
Accounting
Accounting is a
system that
identifies, measures,
records and
processes events
mainly of financial
nature relating to an
identifiable
economic entity and
communicates in an
understandable form
to its interested
users.
Source : Ibid, Diagram -1.
All the works of accounting is done with the main objectives of scoring
the users. So, to perform this function, the accountant must not only
accumulate, process, store and communicate financial information, but
must understand the need of the users, time when the information is
needed and the form in which the information to be supplied. So, in
present day business situation, the nature and scope of an accountant’s
work have widened both horizontally and vertically. He must understand
the process of management function, consequences of improper decision
2
Statement of Accounting Principles Board, No. 4 "Basic Concepts and Accounting
Principles underlying Financial Statements of Business Enterprises." (New York:
American Institute of Certified Public Accountants, 1970), par 40.

School of Business
and also the impact of alternative decisions on the business's financial
position. Moreover, he has to satisfy different groups of users of
information with different objectives. As such the accountant's position
in the hierarchy of administration has now been elevated to the highest
level.
1.1.4. Users and Uses of Accounting Information:
Potential investors
are also interested to
know the past
performance of the
business and their
financial position
with an objective to
make investment in
future.
In the business world there are various groups of users of accounting
information. Accounting information are used by investors, creditors,
managers, taxpayers, union representatives, regulatory agencies,
potential investors, creditors, and others. Each of them has their
particular type of relationship and interest in a business entity. So they
need accounting information to satisfy their particular need. The
accountant should be able to identify the users group with particular kind
of decision they want to take and supply accounting information in such
an understandable form, so that it satisfies each group of users. The
principal users may be grouped as outlined below:
Accounting
information are used
by investors,
creditors, managers,
taxpayers, union
representatives,
regulatory agencies,
potential investors,
creditors, and
others.
1. Management
Management is a group of people responsible for achieving the entity’s
goals. They are entrusted with the responsibility to run the business and
use the financial resources provided by the investors with the ultimate
objectives of earning profit and thereby to maximize the wealth of the
owners. This ultimate objective can be achieved by taking a host of
various decisions, controlling the activities in such a way that destined
objectives are achieved and doing everything to enhance the morale of
all the employees of the entity. In this competitive business environment
this process of decision making and controlling function can only be
efficiently performed by the management if they are supplied with all
necessary, timely and related information. These decisions may relate to
product pricing, establishment output target and sales target, evaluating
investment decisions, determining appropriate inventory and cash level,
determine financing requirement etc. Moreover, they have report to their
employers as to the stewardship functions, performed by them. So
management can be termed as one of the most important users of
accounting information and a major function of accounting is to provide
management with all relevant, useful and timely information. The
management is also often termed as internal users. So, it has given rise to
the expression that accounting information provides the "eyes and ears of
management".
2. Users with direct financial interest in the entity:
(a) Present and Potential Investors:
A major function of
accounting is to
provide management
with all relevant,
useful and timely
information.
Present owners/investors are very much concerned with the state of their
investments in the business. They want to know the level of
performance of the business in the past year. They want to know what
amount of profit has been earned? What is the state of financial position?
Whether the business’s cash position was satisfactory to make all
possible distributions, necessary for the successful operation? What
Unit-1 Page-6

amount of dividends they expect to get? The future potential investors
are also interested to know the past performance of the business and their
financial position with an objective to make investment in future. The
accounting system is supposed to measure and report financial
information about how a business has performed. Most business houses
perform this function by publishing periodical general purpose financial
statements that report on their success in meeting objectives of
profitability and liquidity.
(b) Present and Potential Creditors:
In modern days business is being financed jointly by owners and outside
finance providers. Major part of the total investment is being financed
by short term and long term borrowing. A part is also being supplied by
trade credits. All of these outside creditors are very keen to know the
financial position and cash position by assessing the amounts, timing,
and uncertainty of prospective cash receipts of the business to make sure
whether the business will be able to pay their claims regarding interest
and principal in time and their earning capabilities. The suppliers of long
term loans like banks, finance companies, mortgage companies,
insurance companies etc., shall expect to analyze the profitability and
solvency position of the business before making a loan.
3. Users with indirect financial interest :
Business flourishes at the cost and co-operation of the society. Business
houses use the scarce resources of the nation and convert them into
goods and services readily suitable for consumption by the members of
the society. So different groups in the society get interested in the
activities from different perspective. These groups may be comprised of
customers; Government agencies like tax authority, regulatory bodies,
economic planners, agency responsible for competing national income;
employees and even the competitors.
1.1.5. Types of Accounting :
As stated earlier different groups of users need information relating to an
entity for different purposes. But management need considerably great
detailed information and almost regularly and in an understandable form
for planning and day to day control of the business, whereas the others
need information occasionally and for special purposes. This difference
in needs of various groups of users has resulted in the development of
different branches of accounting to serve the purposes of management
and other users.
Management Accounting :
In ordinary language, any system of accounting which assists
management in carrying out its functions more efficiently may be termed
as Management Accounting.

School of Business
Management Accounting is concerned with supply of economic
information for decision making purposes of management, feedback
information regarding the fulfillment of the plan and taking of necessary
actions for successful implementation of the desired goal of the business.
All the necessary information is to be supplied as per desired time,
format and frequency, determined by the management. It supplies both
historical and estimated data in assisting management solving day-to-day
problems and planning for the future. This branch of accounting used to
collect, analyze and present information in special purpose financial
statements. These statements are not for outside users.
Any system of
accounting which
assists management
in carrying out its
functions more
efficiently may be
termed as
Management
Accounting.
Financial Accounting :
This particular branch supplies economic information in a general
purpose financial statements and for use by all groups of users, interested
in the business. The statements, to be prepared in financial accounting,
are dictated by the respective law relating to that particular type of
business and the professional standards and ethics followed by the
professionals in preparing the statements. The statements usually
prepared are (i) Balance Sheet (ii) Income Statement, (iii) Cash flow
statement and (iv) Value-added statement. The collection, processing and
presentation of the information under this system is usually guided by
GAAP (generally accepted accounting principles), conceptual framework
of accounting, accounting standards.
Financial
Accounting supplies
economic
information in a
general purpose
financial statements
and for use by all
groups of users,
interested in the
business.
In addition to these two above mentioned branches of accounting there
are other special branches, which deal with special purposes such as
Tax Accounting :
This branch of accounting shows how the business operations comply to
tax law and effects of taxes on profit. It includes the preparation of tax
returns and the consideration of the tax consequences of proposed
business transactions. Sometimes, the normal recording of financial
operation in financial accounting may be different from as per tax law.
This branch is supposed to prepare statements as per tax law.
Auditing :
This particular branch is closely related with financial accounting
system. It represents a field of accounting activity that independently
reviews general accounting. This branch actually reports as to whether
recognition, recording, preparation of statements in financial accounting
are done as per GAAP, related law and professional standards, so that
these statements reflect the true and fair view of the financial position
and operational performance of the business. There might have internal
auditing to satisfy the management and other directly interested parties
like owners to certify that the recording and reporting are true. In case of
business organization where the management is separated from
ownership by operation of law, it becomes obligatory to have reports
from external auditor. The external auditor used to perform his functions
as per law related to that organization .
Tax Accounting
shows how the
business operations
comply to tax law
and effects of taxes
on profit.
Unit-1 Page-8

Cost Accounting: Auditing reports as
to whether
recognition,
recording,
preparation of
statements in
financial accounting
are done as per
GAAP, related law
and professional
standards, so that
these statements
reflect the true and
fair view of the
financial position
and operational
performance of the
business.
This branch refers to mainly determination of costs and its control for
decision making purposes, control and evaluation. With the advent of
supremacy of free market economic system, the importance of this
branch has increased manifold as a tool for fulfilling the business's main
objective of earning profit. But with the increase in complexity and
competition in business, this branch's function has become almost
similar to the functions of management accounting, as both the branches
are to supply information to management for decision making, control
and evaluation of day to day operations of different functional units of an
organization. As such this is known as management accounting in
modern days.
1.1.6. Financial Statements:
Though the accounting is also the process of identifying, measuring and
processing of accounting information in the form of journalisation and
posting to the ledger, the main function of communicating information is
being performed through the preparation of financial statements. The
medium used to communicate accounting information about a business
enterprise is financial statements. The main financial statements
prepared are (i) Balance Sheet; (ii) Income statement; (iii) Statement of
owners equity; (iv) Cash flow statement; and (v) The value-added
statement.
Cost Accounting
refers to mainly
determination of
costs and its control
for decision making
purposes, control
and evaluation.
(i) Balance Sheet:
A balance sheet is a statement that reports the assets, held by a particular
business concern at a specified date and the corresponding claims against
those assets in the form of liabilities and owner's equity.
(ii) Income Statement (Profit and Loss Account):
This particular statement shows the amount of revenues earned by the
business entity during a particular period of time and the corresponding
expenses incurred to earn the revenues. The net difference between these
two is known as net profit earned a net loss incurred by the entity which
increases/decrease the owners equity, the claims of the owner.
(iii) Statement of Owner's Equity:
This statement shows the changes in the owner's equity that have
occurred during a specific period of time.
(iv) Cash flow Statement :
One major deficiency of income statement and comparative balance
sheets is that they show the change in financial position , caused by
operations of an organization, but does not explain the effects of cash
inflows and cash outflows, which is the life blood of business entity.
The present day investors are mainly interested in short term benefits like
cash dividends or refund of loan money and interest payment. This is
being served by cash flow statement which summarizes information

School of Business
concerning the cash inflows (receipts) and outflows (payments) for a
specific period of time. As the statement shows changes in the financing
pattern and investment activities, it seems to be very useful to all user
groups.
Cash flow statement
summarizes
information
concerning the cash
inflows and outflows
for a specific period
of time.
(v) Value-added Statement:
This is a macro-level analysis of the effects of economic activities
performed by business organizations during a particular period of time.
In other words, how the business activities influence the total economy
as a whole is being supplied by this statement. All business
organizations create values by transforming gift of nature to goods and
services, capable of satisfying human needs. The values are being created
by the co-ordinated efforts of various factors of production like land,
labor, capital, organization and the government. These factors, in turn,
receive a particular part of the total value added in the process of
production as their remuneration. And how this value is created, what is
the amount and how this total amount is being distributed among these
various factors are being shown by this statement. This distributions
received by different factors of production form the basis for calculation
of national income of a country.
Value-added
statement analyzes
the effects of
economic activities
performed by
business
organizations during
a particular period
of time.
Unit-1 Page-10

Lesson-2 : GAAP (Generally Accepted Accounting
Principles) and conceptual Framework of
Accounting
Lesson Objectives
understand the meaning of the term GAAP
describe influences of GAAP in accounting activities
state qualitative characteristics of accounting information
state the elements of accounting.
1.2.1 Introduction
Every profession must develop a body of theory consisting of principles,
assumptions and standard for the conduct of their particular activities.
This body of theory is essential mainly for a service function, because
these activities directly influence the others either materially or
immaterially. Accounting is not an exception to this. The work of an
accountant directly affects the users materially in decision making. In
accounting a large body of theory exists. Philosophical objectives,
normative theories, interrelated concepts, precise definitions and
rationalized rules comprise this body of theory. This body of theory is
known as conceptual framework of accounting. An understanding of this
conceptual framework is desirable for forming a better and complete idea
about the financial position and operational performance of a business
organization, supplied by the accounting system. This body of theory is
generally accepted and practiced universally and as such these are known
as generally accepted accounting principles (GAAP). These GAAP are
being framed by different national and international bodies working in
this end. In U.S.A. FASB (Financial Accounting Standard Board) and
SEC (Securities and Exchange Commission) are primarily entrusted with
this responsibility. Other organizations like AICPA, AAA, GASB are
also working in this particular process. In England, ACCA, CIMA,
CIPFA, ICAEW, ICAI and ICAS are the main organizations dealing
with this ethical side of the profession. In Bangladesh we can name
ICAB, ICMAB and SEC which are also engaged in this pursuits.
Moreover, International Accounting Standard Board (IASB) is mainly
responsible for harmonizing the accounting practices in the world arena.
But before going to study this conceptual framework or GAAP, one thing
must be kept in mind that these principles are not like principles of
natural science and mathematics. They cannot be derived from or proved
by the laws of nature, and they are not viewed as fundamental truth or
axioms. As accounting is a behavioral science, it is mainly dictated by
the continuous changes in the business environment which calls for
change in the form of recording, processing and preparation of
statements to suit the users under the changed situation. For example, in
accounting we have stable money measurement assumption which is in
effect, an absurd assumption. So in accounting the changes in the worth

School of Business
of business due to change in money value may be shown through
preparation of a supplementing statement showing the effects of changes
in money value in the financial statement.
1.2.2. Conceptual Framework
A conceptual framework is like a constitution, it is coherent system of
interrelated objectives and fundamentals that can lead to consistent
standards and that prescribes the nature, functions, and limits of financial
accounting and Financial statements.1
" This framework will guide the
total magnum of activities performed by an accountant starting from the
collection of information as an input and its processing into an output
through preparation of financial statement to be communicated to the
users. The FASB has issued three Statements of Financial Accounting
Concepts (SFAC) that relate to financial reporting for business
enterprises. These three statements form the first two levels of
conceptual framework stating mainly the objectives, nature and the
qualitative characteristics of accounting information. These first two
levels provide the foundation for developing the third level of conceptual
framework, the operational guidelines, that shall help the accountants in
performing their activities even in a controversial situations. These
operational guidelines comprise of (a) Basic Assumptions of
Accounting, (b) Basic Accounting Principles; and (c) Constraints. These
guidelines also help the users in understanding the information supplied
by the accountant through financial statements and their some inherent
limitations. These operational guidelines are the Generally Accepted
Accounting Principles. The framework is being presented in the diagram
No-3.
Conceptual
framework guides
the total magnum of
activities performed
by an accountant
starting from the
collection of
information as an
input and its
processing into an
output through
preparation of
financial statement
to be communicated
to the users.
1
Conceptual Framework for financial accounting and Reporting : Elements of financial
statements and their measurement." IASB Discussion memorandum (Standard Con:
FASB 1976), p.1.
Unit-1 Page-12

Diagram-3:
Source: Kieso & Weygandt : Intermediate Accounting, p. 44.
Constraints
1.Cost benefit
2.Materiality
3.Industry Practice
4.Conservatism
Basic Principles
1.Historical cost
2.Revenue Recognition
3.Matching
4.Full Disclosure
Basic Assumptions
1.Economic Entity
2.Going concern
3.Monetary unit
4.Periodicity
Third level:
Operational guidelines
Second Level:
Fundamental concepts
Qualitative Characteristics:
1.Primary qualities
A. Relevance
1. Predictive value
2.Feed back value
3.Neutrality
2. Secondary qualities
A. Comparability
B. Consistency
Elements:
1. Assets
2. Liabilities
3. Equity
4. Revenues
5. Expenses
6. Gains
7. Losses
Objectives
Provide useful
information:
1. Useful in investment and
credit decisions.
2. Useful in assessing future
cash flows.
3. About enterprise resources,
claims to resources, and
changes in them.
First Level:
Basic objectives
FIRST LEVEL : BASIC OBJECTIVES : The basic objective of
accounting is to supply information, mainly financial, to different types
of users for decision making, control, and evaluation of the operational
performance of business organization in using their financial resources in
earning profit and thereby to keep the total investments in resources in-
tact so that the business can operate at least in its present form in future.
The basic objective
of accounting is to
supply information,
mainly financial, to
different types of
users for decision
making, control, and
evaluation of the
operational
performance of
business
organization.
Decision making in the present day business world has become more
complex. It includes setting of goal, finding alternative ways of
accomplishing the goal and deciding which alternative is the best course
of action. So, the accountant must present a clear statement of financial
alternatives.
Whether the operation of a business is being carried out as per plan or
not, the management regularly wants to monitor it and in case of
deviation, corrective actions must be taken at the right time. So
accountant must supply comparative statements regarding the level of
actual operational performance as against the plan.
Evaluation of operational performance may be made by different groups
of people either directly interested or indirectly interested in the business.
It may be made by owners, creditors or even by trade unions. So the
necessary statements and supplementary information must be supplied in

School of Business
this respect by accounting system. In providing information to users of
financial statements, the accountants generally prepare general purpose
financial statements at minimal costs. These statements are being
supplemented by all other necessary reports or schedules.
SECOND LEVEL : Fundamental Concepts:
The first level defines the objectives, why accounting is done and the
third level shows how the work is being done. But in between these two
levels, one user of the information, supplied by the accountants, must
understand the qualitative characteristics of these information and must
know the meaning and nature of different elements that the financial
statements comprise. This level represents the conceptual building
block.
To be useful to the users, the accounting statements must fulfil some
qualitative characteristics. The statements must be understandable to the
users. Understandability is the quality of information presented in an
appropriate form , so that its significance is being perceived by the users.
True and reliable information presented in a complex form may not be
understandable to the users.
To become understandable the accounting information must possess two
primary qualities: Relevance and Reliability.
Relevance - it is potential for accounting information to have the ability
to influence the decisions of the users. Relevant information helps the
users make predictions about the past (confirmatory relevance), present
and future (predictive value). The information to be relevant must be
supplied to the users in time before it loses its capacity to influence the
decision makers. So, to be relevant, an information must have predictive
value and feed back value and it must be supplied in time.
Reliability : It is the quality of information that gives assurance that it is
reasonably free from errors and biases and is a faithful representation.
An information to be reliable, must possess qualities like verifiability,
representational faithfulness, and neutrality. Verifiability refers to
high degree of consensus among independent measures using the same
measurement methods. Representational faithfulness refers to
correspondence or agreement between accounting records and the
source document and the information presented in the statements.
Moreover, for information to be reliable, it must be neutral, i.e., free
from bias. It should not be presented in such a form so that it can
influence the decision makers in a predetermined way. To be neutral, an
accounting information needs to be objective. Reliable information will
be prudent in nature and must be complete, as omissions can mislead a
decision maker.
Secondary qualities of accounting information : The accounting
information supplied through financial statements and reports should
possess the qualities of comparability and consistency. Information, to
be useful, must be comparable with similar information of other
enterprise or with similar information of the same organization of
Unit-1 Page-14

another point of time. To be comparable, information must be measured
and reported in a similar manner by different organizations. When the
measurement and reporting of an event as per accounting principles can
be made applying different methods, the question of consistency in
applying the same method in accounting treatment of events shall ensure
comparability of information between years, which is essential to
evaluate the enterprises performances over years.
Expenses are the
scarifies or
obligations for
future scarifies of
resources for
earning revenues.
In the second level another most important aspect of accounting
information in the elements or definitions is being stated. Understanding
of financial statements depends on the clear knowledge about the
elements or items through which these statements are being presented.
The primary elements of accounting are:
Assets - Probable future benefits obtained or controlled by a particular
entity as a result of past transactions or events. These assets indicate the
financial strength of the enterprise which shall yield future revenues to
the enterprise.
Liabilities - A business entity is an artificial one created by an agreement
or law or statute . So the assets must be supplied by one . The claims of
the supplier of assets over the entity's resources are termed as liability.
These are the probable future sacrifices of economic benefits arising
from present obligations of a particular entity to transfer assets or
provide services to other entities in the future as a result past
transactions or events. Liabilities are contractual debts of the entity
which are recognized by law. They have rights over owners inter
distribution of assets.
Assets are probable
future benefits
obtained or
controlled by a
particular entity as a
result of past
transactions or
events.
The claims of the
supplier of assets
over the entity's
resources are termed
as liability.
Owner's Equity : It is the residual interest in the assets of an entity that
remains after the deducting its liabilities. Equity is the owner's claim or
interest in the business. Owner's equity is comprised of two elements in,
the capital invested by the owner plus the earnings retained in the
business. Equity can be stated as : Assets - Liabilities = Owner's
equity.
Revenues : Revenues are inflows or other enhancements of assets of
an entity or settlement of its liabilities (or a combination of both) during
a period from major operations of the entity which may be delivering or
producing goods, rendering of services etc. Revenues are reflected by an
increase in owner's equity. All inflows or enhancement of assets may
not be a result of a revenue. Such as increase in cash balance due to
borrowing from bank is not a source of revenue. Liabilities are not
generally affected by revenues.
Owners' equity is the
residual interest in
the assets of an
entity that remains
after the deducting
its liabilities.
Revenues are
reflected by an
increase in owners'
equity.
Expenses : Expenses are the scarifies or obligations for future scarifies
of resources for earning revenues. These are the outflows of assets or in
currencies of liabilities (or a combination of both) during a particular
period from delivering or producing goods, rendering services, or
carrying out other activities that constitute major operations of the
organization.

School of Business
Gains : Increases in equity (net assets) from peripheral and incidental
activities of an entity other than normal operations.
Losses : Decreases in equity (net assets) from peripheral or incidental
transactions of an entity other than normal operations.
Third Level : Operational Guidelines:
Accounting is defined as an information system that measures, processes
and communicates financial information. Now the question arises as to
what information is to be measured and processed? That means what
shall be the input of accounting? The operational guidelines give
answers to all these questions like what is to be recorded in books of
accounts. What should be the value at which the event should be
recorded? When should the information be recorded? How is it to be
recorded? etc.
This level has been sub-divided into three categories: (1) Basic
Assumptions (2) Basic Principles and (3) Constraints. All these three
together gives answers to the above questions relating to accounting
process starting from identification of input to output of accounting ie.,
supply of financial information through statements and reports.
1. Basic Assumptions:
The assumptions provide a foundation for the accounting process. The
assumptions helps to understand what is being recorded and how the
events have been recorded. There are four basic assumptions.
(i) Economic Entity Assumption :
For accounting purpose, a business is treated as a separate entity. As per
this assumption, all events that changes the financial position of the
entity are recorded in the books of accounts. The entity concept assumes
that the business is separate not only from creditors and customers but
also from its owners. The owner is treated as a creditor for to the extent
of his capital. Capital is thus a liability to the business and an owner is a
creditor of the business. Under this assumption, all records and reports
are developed from the view point of the particular entity.
The entity concept
assumes that the
business is not only
separate from
creditors and
customers, but also
equally separate
from its owners.
(ii) Money Measurement Assumption :
As per this assumption, the events or transactions, that are capable of
being measured or expressed in terms of money shall be recorded into
books of account. Thus events, may be very important to business entity,
that cannot be objectively translated into money shall not be recorded
into the books of account. For example, if all the efficient managers
resign at a time from the business, this information will be not be
recorded in the books as its effect cannot be objectively translated into
money. Under this assumption, monetary unit is considered to be
sufficiently constant over time, which might even be considered as a
limitation of accounting information. Thus this assumption ignores the
qualitative aspect of things; and the impact of inflationary changes is not
adjusted in financial statements due to this assumption.
The events or
transactions, that
are capable of being
measured or
expressed in terms of
money shall be
recorded into books
of account.
Unit-1 Page-16

(iii) Going Concern Assumption :
Revenue is
considered to be
earned on the date
on which it is
realized.
This assumption is frequently called continuity assumption and assumes
that a business entity generally shall continue for an unlimited period of
time to carry out its objectives. Though there are some business failures
each year, normally a business is established with an objective to
carryout its operations for quite a longer period of time. With this aim in
view the business used to invest a huge amount of money in fixed assets
with a considerable long life. These assets only be used in the business
to earn profit, as such these are shown at historical cost. Proportionate
cost of these assets is charged against revenue to find out the profit
earned. So, under this assumption, continuity of activity is assumed and
accounting reports are fashioned as a going concern, just as against
liquidation.
Going concern
assumption assumes
that a business entity
generally shall
continue for an
unlimited period of
time to carry out its
objectives.(iv) Periodicity Assumption :
This assumption, in a way, contradicts the going concern assumption.
Here the unlimited life of the business is artificially sub-divided into time
periods which is generally a calendar year. According to this assumption,
determination of yearly income is made, though actual business income
can exactly be determined on liquidation only. This becomes essential
for distribution of income to the investors, who invested into the business
to earn, to pay the loan providers interest, to give income tax on yearly
basis to government and also to provide data on production, value
addition, cost, and distribution of values for compilation of national
income and production statistics. This assumption emphasises the need
of accruals and deferrals basis of accounting than cash basis accounting.
If the demand for frequent interval reports does not arise during the life
span of a business, accruals and deferrals of revenues and expenses could
not be essential.
Periodicity
assumption
emphasises the need
of accruals and
deferrals basis of
accounting from
cash basis
accounting.
2. Basic Principles :
The basic principles guide how business events and transactions should
be recorded into books of account and reported. The principles are based
on the above mentioned basic assumptions. These principles give answer
as to at what value and when the transactions should be recorded. The
principles comprise of :
Historical cost
principle asserts that
the assets should be
recorded in the
books of account
and shown in the
balance sheet at
their original cost.
(i) Historical Cost Principle : This principle asserts that the assets
should be recorded in the books of account and shown in the balance
sheet at their original costs, which is nothing but the resources sacrified
or under obligation to sacrifice in the future period for their acquisition.
Cost is both relevant and reliable. Cost is reliable as objectively
measured. It tends to be a matter of demonstrable fact. It is relevant
because it represents the assets scarified. Sometimes current value tends
to be more relevant and acceptable, but as it is a matter of opinion, the
accountant prefers objectivity.
(ii) Revenue Recognition Principle : This principle determines the
point of time at which revenue should be treated as having been earned.
Revenues should be recognized in the accounting period in which it is
earned. In practice it might sometime become difficult to apply specially
when goods are sold on credit. The question arises as to when the
revenue is to be recognized and recorded: When the order is received

School of Business
from the customer or when the goods pass to the customer or when the
customer pays for the goods. Generally as per this principle revenue is
considered as being earned on the date on which it is i.e. the date on
which the ownership on the goods and services are transferred to
customers either for cash or for credit. In case of credit sale it is
recognized when the goods is passed to the customer without giving
emphasis of actual cash payment. This principle is important as it prevent
business firms from, inflating their profits by recording sale and income
that are likely to accrue.
(iii) Matching Principle: In accounting expenses are recognized always
in reference to revenue. The period in which a revenue is recognized and
recorded, the sacrifies made or obligation to make in future should be
recognized and recorded as expenses in that period. This concept of
recognizing expense in reference to revenue is called matching principle.
Expenses are thus the expired costs, i.e., that part of the cost which has
already been sacrified for earning revenue. The part of the cost which has
not yet been sacrified for earning revenue or shall be used up in future
for earning revenue is called unexpired cost, and is shown as asset. For
example, purchase of merchandise for sale is the cost of acquisition. But
only that part of purchased merchandise which has been sold out is
called cost of goods sold and is treated as expense against sales revenue.
The unsold part is unexpired cost which is shown as inventory in the
balance sheet. Thus fixed assets are unexpired costs and depreciation is
the expired cost and treated as expense.
Materiality refers to
an item's impact on
the overall financial
position and
operations.
Expenses are
recognized always
in reference to
revenue.
(iv) Full Disclosure Principle : This principle dictates that the necessary
information with regard to a particular element in the financial statement
must be supplied to make it self explanatory for decision making
purpose. Financial statements and their accompanying footnotes or other
explanatory materials should contain all of the pertinent data believed
essential to the readers' understanding. In compliance to this principle
additional data, explanation, schedules etc. are attached as supplementary
information for the users for making decisions. For example, significant
loan agreements against an asset as a mortgage, accounting methods
employed, changes in accounting methods, events subsequent to date of
statements all should be disclosed. Though it is difficult to decide how
much disclosure is enough, it is to be judged by the cost-benefit analysis,
i.e., the cost of providing such information through statements should be
compared with the benefits that shall be accruing to the users.
Full disclosure
principle dictates
that the necessary
information with
regard to a
particular element in
the financial
statement must be
supplied to make it
self explanatory for
decision making
purpose.
3. Constraints : Constraints in accounting refers to the exceptions/or
relaxation in the use of accounting principles in special circumstances.
The two main constraints are (1) Materiality and (2) Conservatism. The
other dominants constraints are Industry practice and cost-benefit
relationship.
(i) Materiality : It refers to an item’s impact on the overall financial
position and operations. An item is material when it influences the
decision of informed investor and immaterial when it has no impact on
that. Materiality in its essence is of relative significance. In the serve that
some of the unimportant items are either left out or included with other
items. For example, a business organization purchased some long-lived
Unit-1 Page-18

assets but of very negligible value. In this case this event may be treated
as expense rather than assets, as this treatment either as asset or as
expense does not affect the operational result or financial position of the
business. The determination of what is material and what is unimportant
requires the exercise of judgment, precise criteria cannot be applied.
(ii) Conservatism : This constraints refers to situations when two
methods are otherwise equally appropriate, the choice should be made
for the one that will least likely to overstate assets and income. In
accounting, as per this constraints, all probable/expected losses are
accounted for whereas the expected income/revenues are not recorded
until earned. The attitude of conservatism was frequently expressed in
the admonition to "anticipate no profits and provide for all losses." A
common application of this constraints is the use of ‘cost or market value
whichever is lower’ in valuing closing inventory, though the basic
principle of valuation of closing stock is cost. Application of this
constraint forbids overstatement of income, not yet been earned ,
accounting treatment of which might cause higher outflows of resources
in the form of dividends and taxes.
Industry practice refers to difference in treatment of an event into
accounts from its usual one due to peculiar nature of some business or
industry. Cost-benefit relationship dictates the quantum of information to
be provided to the users by the accounting system. The accounting
system usually prepares general purpose financial statements, which
contain all basic financial information in relations to an entity, knowing
it fully well that different types of users might need specifically different
types of information for taking their respective decisions. But from cost-
benefit analysis, it is not feasible to prepare specific purpose financial
statement for specific users. All these guidelines comprising
assumptions, principles and the constraints dictate the operational part of
accounting work.
Conservatism
constraint refers that
all probable/
expected losses are
accounted for
whereas the expected
income/revenues are
not recorded until
earned.

School of Business
Lesson-3 : Basic Accounting Equation
Lesson Objectives
understand basic accounting equation
analyze the nature of transaction and the effects of transaction on
accounting equation
Introduction
1.3.1. Basic Accounting Equation :
In the foregoing discussion, the conceptual framework of accounting has
been explained. The elements of accounting and the operational
guidelines were also discussed elaborately. We now know that one of the
basic assumptions of accounting is "Business Entity Assumption." The
end result of the accounting activity for an entity is the financial
statements that describe the entity. As mentioned earlier, a business is a
separate entity created either by law, agreement or statute. It is separate
from its creditors, customers and even from its owners. As it is an
artificial entity, all the financial resources with which an entity starts to
operate are supplied from outside. So with the start of the business, the
financial position of an entity can be expressed by an equation:
Assets = Liabilities
+ Equity is the basic
accounting equation.
Assets = Liabilities + Equity
That is all the resources, supplied into an entity , are nothing but equal to
claims of the suppliers. This is the basic accounting equation. In the
above equation assets represent an enterprise's economic resources,
liabilities are its obligations owed to creditors, and equity is the onwer's
residual interest in the enterprise asset. This equation at any point of time
explains the total resources held by an entity and the sources from which
these were collected. It is customary to place "liabilities" before "equity"
in the accounting equation because creditors have preferential rights to
the assets.
Transaction – the basic input of accounting:
Transactions are economic events that affect change the financial
position of a business entity. A transaction is the occurrence of an event
or of a condition that brings changes in entity's assets, liabilities or
equity. This is the basic input of recording in accounting. Transactions
may be external or internal. External transactions involve economic
events between the entity and some outside parties or organizations,
whereas an internal transactions are events that occur entirely within the
entity. In same literature external events are only called transaction.
Transactions are
economic events that
affect change the
financial position of
a business entity.
Analysis of Transactions and their effects on Accounting equation:
As per definition a transaction must bring change in the financial
position of an entity which refers to the resources it owns and the claims
on those resources in the form of liabilities and equity. Accounting
equation is nothing but the expression of financial position in an
equation form. So, a transaction must change or affect the elements of
Unit-1 Page-20

accounting equation. Analyses of transactions refer to the identification
of the changes brought about by a transaction on the elements of the
equation. The analysis will show that a transaction might take any form
of the following changes:
(1) Increase in asset and an increase in liability or equity.
(2) Increase in one asset with corresponding decrease in another asset
without having any change in other side of the equation.
(3) Decrease in one asset with corresponding decrease in a liability or
equity.
(4) Decrease in a liability or equity with corresponding increase in
another liability or equity.
This analysis will show that a transaction will always preserve the
equality of the accounting equation. Therefore, each transaction must
have a dual effect on the equation.
Example :
Transaction – 1
Investment by Owner: Mr. Mojumdar decides to open a firm. On
September 1, 1999, he invests Tk.15,000 cash in the business. This
transaction results in an equal increase in assets and owner’s equity. The
effect of this transaction on the basic equation is :
Assets = Liabilities + Owner’s Equity
Cash = Capital
T-1: + 15,000 = +15,000
Transaction – 2
Purchase of Equipment for Cash: The firm purchases computer
equipment for Tk. 7,000 cash. This transaction results in an equal
increase and decrease in total assets, though the composition of assets is
changed. The effect of this transaction on the basic equation is :
Cash + Equipment = Capital
Balance: +15,000 = +15,000
T-2: -7,000 +7,000 =
Balance: 8,000 +7,000 = 15,000
Transaction – 3
Purchase of Supplies on Credit: The firm purchases supplies for the
firm for Tk. 1,600 on credit from Acme Suppliers. This transaction
results in an equal increase in total assets, and increase in liability. The
effect of this transaction on the basic equation is :

School of Business
Cash + Supplies + Equipment = Accounts Payable + Capital
Balance: 8,000 +7,000 = 15,000
T-3: +1,600 = +1,600
Balance:8,000 +1,600 +7,000 = +1,600 + 15,000
Transaction – 4
Services Rendered for Cash: The firm receives Tk. 1,200 cash from
customers for programming services it has provided. Both assets and
owner’s equity are increased by this transaction. The effect of this
transaction on the basic equation is :
Balance: 8,000 +1,600 +7,000 = +1,600 15,000
T-4: +1,200 = 1,200
Balance: 9,200 +1,600 +7,000 = +1,600 + 16,200
Transaction – 5
Purchase of Advertising on Credit: The firm receives a bill for Tk.250
from the Daily News for advertising the opening of its business but
postpones payment of the bill until a later date. This transaction results
in an increase in liabilities and a decrease in owner’s equity. The effect
on the equation is :
Balance: 9,200 +1,600 +7,000 = +1,600 + 16,200
T-5: = +250 -250
Balance: 9,200 +1,600 +7,000 = +1,850 + 15,950
Transaction – 6
Services Rendered for Cash and Credit: The firm provides
programming services of Tk. 3,500 for customers. Cash amounting to
Tk. 1,500 is received from customers, and the balance of Tk. 2,000 is
billed to customers on account. This transaction results in an equal
increase in assets and owner’s equity. The effect on the equation is :
Assets = Liabilities + Owner’s
Equity
Cash + Receivable + Supplies + Equipment = Accounts Payable + Capital
Balance: 9,200 +1,600 +7,000 = +1,850 + 15,950
T-6: 1,500 2,000 = + 3,500
Balance: 10,700 +2,000 +1,600 +7,000 = +1,850 + 19,450
Unit-1 Page-22

Transaction – 7
Payment of Expenses: Expenses paid in cash for September are store
rent, Tk.600, salaries of employees, Tk.900, and utilities, Tk.200. These
payments result in an equal decrease in assets and owner’s equity. The
effect on the equation is :
Assets = Liabilities + Owner’s
Equity
Cash + Receivable + Supplies + Equipment = Accounts Payable + Capital
Bal.:10,700 +2,000 +1,600 +7,000 = +1,850 + 19,450
T-7: -1,700 - 600
-900
-200
Bal.: 9,000 +2,000 +1,600 +7,000 = +1,850 + 17,750
Transaction – 8
Payment of Accounts Payable: The firm pays its Daily News advertising
bill of Tk.250 in cash . In analyzing the effect of this transaction, we
must recall that the bill was previously recorded in Transaction (5) as an
increase in Accounts payable and a decrease in owner’s equity. The
effect on the equation is :
Cash + Receivables + Supplies + Equipment = Accounts Payable + Capital
Bal.: 9,000 +2,000 +1,600 +7,000 = +1,850 + 17,750
T-8: - 250 - 250
Bal.: 8,750 +2,000 +1,600 +7,000 = +1,600 + 17,750
Transaction – 9
Receipt of Cash on Account: The sum of Tk.600 in cash is received
from customers who have previously been billed for services in
Transaction (6). This transaction does not change total assets, but it
changes the composition of firms assets. The effect on the equation is :
Bal.: 8,750 +2,000 +1,600 +7,000 = +1,600 + 17,750
T-9: + 600 - 600
Bal.: 9,350 +1,400 +1,600 +7,000 = +1,600 + 17,750

School of Business
Transaction – 10
Withdrawal of Cash by Owner: Mr. Majumdar withdraws Tk. 1,300 in
cash from the business for his personal use. This transaction results in an
equal decrease in assets and owner’s equity. The effect on the equation
is :
Bal.: 9,350 +1,400 +1,600 +7,000 = +1,600 + 17,750
T-10: -1,300 - 1,300
Bal.: 8,050 +1,400 +1,600 +7,000 = +1,600 + 16,450
Unit-1 Page-24

Lesson-4 : Fundamentals of the Recording Process
Lesson Objectives
explain what an account is and how it helps in the recording
process.
define debits and credits and explain how they are used to record
business transactions.
understand the basic steps in the recording process.
explain the nature of journal and understand how it helps the
recording process.
explain what a ledger is and how it helps the recording process.
explain what a posting is and how it helps the recording process.
explain what is summarizing and how is it done through trial
balance and financial statement.
1.4.1. Recording Process
The recording/accounting process constitutes the steps followed in
recording, processing and communicating financial information. This
process can be illustrated in the following way:
Step-1 Step-2 Step-3 Step-4 Step-5
Identification
of
transactions
Analysis of
Transaction into
Debit & Credit
(Journalization)
Posting to
Ledger
(Accounts)
Preparation of
Trial Balance
Preparation
of Financial
Statements
The recording
process constitutes
the steps followed in
recording,
processing and
communicating
financial
information.
Step–1 : Identification of transaction
It is being done on the basis of basic assumptions of "Economic Entity"
and "Money Measurement." The documentary evidences of transactions
might take the form of Memo, bills, vouchers, receipts etc. which give
testimony to the fact that a transaction has taken place.
Step–2 : Analysis of transactions into Debit and Credit
The dual effect of a transaction has been shown in the previous lesson.
But in a business entity, where a great number of transactions take place
in a day, the analysis of transactions showing their effects on the
equation becomes impossible. Formally a transaction is analyzed to find
out its dual effect on the financial position as shown in the previous
lesson. Then transaction are recorded in the books of account under
double entry system of recording, i.e., one account is debited and another
is credited. In this context let us see what is meant by Double entry
system and other related important issues under the double entry system.

School of Business
Double Entry System of Recording
Under this system the double effect of each transaction is recorded. This
system is being evolved by Luca Pacioli, an italian monk in 1494 in a
book on mathematics. This recording is being done by using the term
debit and credit. That is the double effect is recorded by debiting one
account and crediting the other . So the amounts of debits and credits
should always equal each other.
Double effect of each
transaction is
recorded under
double entry system.
The Account
An account is a
summarized and
classified
information in
relation to a
particular
transaction.
An account is a summarized and classified information in relation to a
particular phenomenon or element showing both the increases or
decreases in that element due to the transactions, taking place during that
period and showing the ultimate position of that phenomenon/element at
the end of the period. An account usually has three parts : (1) the title of
the account, 2) left hand side showing debits and 3) right hand side
showing credits. It is illustrated below and it is known or T Account
because of its similarly to the letter T.
TITLE
Debit Credit
Left or debit side Tk. Right or credit side Tk.
T Account
Accounts may be of three types :
1. Real Accounts : This category represents the assets/resources of the
entity. For example, Land, Building, Plant, Cash, Inventory etc.
2. Personal Accounts : This group constitutes all accounts related to
persons or organization, who , in the form of transactions, are either
the debtors or creditors of the entity either for receiving some
financial benefits from the entity or the giving some financial
benefits to the entity. This category may take the form of the both
assets and liabilities and equity.
3. Nominal accounts : This category of accounts are related to
revenues, income or profit of the entity which increases the claim of
the owner; and to expenses, losses etc. which decrease resources of
the entity and there by the claims of the owner.
For facilitating recording process and ultimate analysis, enterprises
maintain a chart of these accounts.
Unit-1 Page-26

Chart of Accounts
It gives the list of the accounts maintained by an entity showing its
number. The number and types of accounts used by an entity differ, for
each enterprise, depending on its size, type and complexity.
Debits and Credits
These are the technical terms used for recording purpose under double
entry system. From accounting point of view the debit and credit do
actually mean nothing more than their literary meaning of left and right
sides respectively. These terms do not mean increase or decrease. As per
double entry system to record dual aspect of a transaction, one accounts
must be debited and another accounts should be credited for equal
amount of money. The act of entering an amount on the left side of an
account is called debiting and entering an amount on the right side of an
account is called crediting the account. At the end of accounting period,
when the totals of these two sides of an account is compared, an account
will have a debit balance if the debit amount exceeds the credit totals
and credit balance when it is vice versa. This rule applies to all accounts.
The rules of debit and credits may therefore be stated as follows:
The act of entering
an amount on the left
side of an account is
called debiting and
entering an amount
on the right side of
an account is called
crediting the
account.
Dr. (Debits) Name of Account (Credits) Cr.
Debit signifies:
Increase in asset accounts
Decrease in liability accounts
Decrease in capital accounts
Credit signifies:
Decrease in asset accounts
Increase in liability accounts
Increase in capital accounts
Debit and Credit Procedure
The procedure for debiting and crediting accounts for recording double
effect of a transaction under double entry system is made by a rule called
golden rule. The rule dictates the process of debiting and crediting each
category of accounts related to transactions. The rules for different
categories of accounts are as follows :
Real Accounts : Assets increase = debits
Assets decrease = credits
Personal Accounts : Value received by an account = debit
Value paid by an account = credit
Nominal Accounts : All expenses, losses = debits
All revenues, gain, income = credits.

School of Business
When the logic behind this rule in relation to a particular category of
accounts is questioned, none will find any satisfactory answer as it is
nothing but custom/convention. But when this rule is analyzed in
relation to the whole group of accounts in an equation, a scientific and
logical answer is available. For example, when an asset increases, it is
debited. With this increase in assets a corresponding claim of equal
amount increases either in the form of liability or equity which is
credited and vice versa. Same is the case when a profit is earned, the
assets increases which is debited and the claim in the form of equity
increases which is credited and the opposite is the case for expenses. In
summary form it can be expressed in the following form:
Debits Credits
Increase in Assets Decrease in Assets
Decrease in Liabilities Increase in Liabilities
Decrease in Equity Increase in Equity
Increase in Expenses Decrease in Expenses
Decrease in Income Increase in Income.
Following example will make the point clear.
Illustration-1:
Transactions Related Accounting
head
Increased or Decreased Determination of debit and credit
i) Jan. 1, 2000
Rahman started
business with
Tk.50,000 as capital
Cash Account
&
Capital Account
i) Cash = Asset → Increased
ii) Capital = Liability → Increased
i) As the asset cash has increased it
will be debited
ii) As liability (capital) has increased,
it will be credited
ii) Jan. 2 credit
purchase of Goods
Purchase Account
&
Creditors Account
i) Purchase = Expenditure →
Increased
ii) Creditors = Liability → Increased
i) As expenses relevant to purchase
has increased, it will be debited
ii) As liability relevant to creditors
has increased, it will be credited
iii) Jan. 5 paid Electricity
bill Tk.5000
Electricity Account
&
Cash Account
i) Electricity bill = Expenses →
Increased
ii) Cash = Asset → Decreased
i) As expenses increased it will be
debited
ii) As cash decreased it will be
credited
Journal
Journal is the book, where a transaction is recorded first in chronological
order analyzing debit and credit account affected by said transaction. As
such it is referred as book of prime entry. Transaction may be recorded
directly into accounts, but in that case it will not be possible to keep
track whether each transaction is recorded or not. If the transactions
taking place daily are numerous in number, it sometimes may become
manually impossible to record all transactions without formal analysis.
So it is better to make formal recording in a journal first and then to
In journal
transaction is
recorded first in
chronological order
analyzing debit and
credit account
affected by each
transaction.
Unit-1 Page-28

post them to the respective account. The journal thus shows transactions
for each day and may contain explanatory information concerning the
transaction.
A separate journal entry is passed to record each transaction and this
process is called journalizing.
A business organization may use different kind of journals but every
entity must maintain a basic form of journal which is called general
journal or journal proper. The general journal provides the following
information about each transaction:
1. Date of the transaction,
2. The accounts to be debited and credited,
3. Amounts debited and credited, and
4. A brief explanation of the transaction.
To illustrate the technique of journalizing we take the first two
transactions recorded in the previous lessons viz., 1) investment by Mr.
Majumdar of Tk.15,000 and 2) the purchase of computer equipment at
Tk.7, 000 cash :
General Journal
Date Accounts title and Explanation Ref. Debit Credit
Tk. Tk.
1999
Sept. 1 Cash A/C Dr. 10 15,000
Majumdar’s capital A/C Cr.
Owner’s investment of cash in
business
50 15,000
1 Computer Equipment A/C Dr.
Cash A/C Cr.
Purchase of computer in cash
20
10
7,000
7,000
Ledger :
Ledger is a book or file which contains records of all accounts
maintained by an entity. It is the principal book of accounts where
similar transactions relating to a particular person or thing are recorded.
Whether the ledger is a book or file, each page or card of a ledger keeps
all the information about an account showing the changes made in the
specific account. For locating easily an account in the ledger, accountants
often use a number for each account. Recording in ledger in the
respective account is made by posting from the journal book.
Ledger is the
principal book of
accounts where
similar transactions
relating to a
particular person or
thing are recorded.
The ledger should be arranged in statement order beginning with balance
sheet account. First the assets accounts should be shown and followed by
liabilities, capital, withdrawals, revenues and expenses.

School of Business
Step-3 : Posting to Ledger
The procedure of transferring entries in the journal to respective accounts
in the ledger is called posting. This particular step of accounting process
accumulates the effects of transactions, recorded in the journal on each
individual accounts.
Form used for Ledger Account
The traditional form used for preparing account in the ledger is ‘T’ form.
At present, more structured and too somewhat complicated form is used.
To illustrate the previous example used in the journal, the necessary
accounts in both the form is shown below:
‘T form’
Cash A/C – 10
Dr. Cr.
Date Particulars Ref. Amount Date particulars Ref. Amount
1999
Sept. 1 Majumdar Capital
A/c
J.1 15,000
1999
Sept.1 Computer
Equipment A/c
J.2 7,000
Majumdar’s Capital A/c - 50
Dr. Cr.
Date Particulars Ref. Amount Date Particulars Ref. Amount
1999
Sept. 1
1999
Sept.1 Computer
Equipment A/c J.1 15,000
Computer Equipment A/c - 20
Dr. Cr.
Date Particulars Ref. Amount Date Particulars Ref. Amount
1999
Sept. 1 Cash A/C J2 7,000
Modern Form of Ledger Account
Cash A/C (based on earlier illustration)
Date Explanation Ref. Debit Credit Balance
1999
Sept. 1 Majumdar Capital A/c J.1 15,000 15,000
" 2 Computer Equipment A/c J.2 7,000 8,000
Unit-1 Page-30

Step-4:
Summarizing Transactions and Preparation of Trial Balance
The next step is the preparation of the Trial Balance which is a summary
of debit balances and credit balances of Ledger accounts. After the end
of the financial or accounting period, which may be of six months or of
twelve months or of any other periodical segments, all the ledger
accounts are balanced, and the balance figure is taken in the Trial
Balance to prove the arithmetical accuracy of the accounts in the ledger
and to facilitate the preparation of Final Accounts. The Trial Balance
also serves as a summary of the ledger and provides much of the
information needed to prepare the balance sheet and the income
statement. Here some adjustments may also be made to bring the
information upto date. These adjusting and closing entries are required to
be made before preparing periodic financial statements. Adjusted and
post closing Trial balances can be prepared at this stage.
Trial Balance, inter-
alia, serves as a
summary of the
ledger and provides
much of the
information needed
to prepare the
balance sheet and
the income
statement.
Based on previous illustration the Trial balance as can be prepared
thereof will be as follows:
Trial Balance
Sl. Accounts title L.F Debit Credit
1. Majumdar's capital 15,000
2. Cash Account 8,000
3. Computer Equipment 7,000
15,000 15,000
Step-5: Preparation of Financial Statements
As soon as the agreement of Trial Balance is there, possible probe into
concealment of errors is made and determination of accounting
information not recorded currently is completed. The accountants
proceed towards the next step of the cycle i.e. preparation financial
statements to find out the net result and impact on asset, liability and
owners equity. At this stage Income Statement and Balance Sheet are
also prepared.
After such statements are prepared the results need to be analysed &
communicated to the interested parties. In the next stage the opening of
books for the following accounting year becomes necessary for which
opening journal entries required to be given. Then the process goes on
repetition and this is called accounting cycle.
1.4.2. The Accounting Cycle
Business enterprises do not prepare financial statement after every
transaction. Each transaction recorded at the date of occurrence
chronologically, accumulated over a period of time and their effects are
shown in financial statement at period end. This accounting process may
be considered to be composed of two parts:
i) The recording phase and ii) The summarizing phase. During an
accounting period. it is necessary to record transaction in relevant books.
At the end of the period these are to be summarized, brought upto date

School of Business
and presented to the concerned interested parties through different
financial statements. These are done in phases which is stolidly
companies on accounting process or cycle.
The sequences of accounting procedures used to record, classify &
summarizing accounting data and information often served as accounting
cycle. It begins with the initial recording of business transactions and
concludes with the preparation of periodic financial statements
summarizing the effects of transactions on the assets, liabilities and
owners equity. The cycle indicates that these procedures must be
repeated continuously to enable the business to prepare financial
statements in intervals based on accounting period.
In this context it may be pointed out that accounting procedures can be
performed mainly by accounts personnel or through computer based
mechanized system. Here the concepts and procedures involved in the
manual and computerized systems are essentially the same. The
differences are largely a question of input machination. The following
diagram shares the accounting cycle as to Manual and Computer based
accounting systems:
Accounting Process or Cycle
Manual Accounting Computerized Accounting
Transactions Occur
1. Analyze & Recording
(Journal)
2. Post to Ledger
3. Summarizing-Prepare
Trial Balance
3. Summarizing the effect-Preparing
Financial Statement
(Income Statement & Balance Sheet)
Transactions Occur
1. Analyze & Enter data
in the System
2. (a) Arrange date as
Journal entry
2. (b) Arrange date as
Ledger accounts
The sequence of
accounting
procedures used to
record, classify and
summarizing
accounting data and
information is
termed as
accounting cycle.
4. Summarizing the effect-Preparing
Financial Statements
(Income Statement & Balance Sheet)
3. Summarizing-Prepare
Trial Balance
Unit-1 Page-32

Questions and Exercises
Self-study questions
1. The accounting process does not include:
a. identification
b. verification
c. recording
d. communication
2. One of the following statements about users of accounting
information is incorrect. The incorrect statement is:
a. Management is considered an internal user.
b. Taxing authorities are considered external users.
c. Present creditors are considered external users.
d. Regulatory authorities are considered internal users.
3. The cost principle states that :
a. assets should be recorded at cost and adjusted when the
market value changes.
b. activities of an entity be kept separate and distinct from its
owner.
c. assets should be recorded at their cost.
d. only transaction data capable of being expressed in terms of
money be included in the accounting records.
4. Which of the following statements about basic assumptions is
incorrect?
a. Basic assumptions are the same as accounting principles.
b. The economic entity assumption states that there should be a
particular unit of accountability.
c. The monetary unit assumption enables accounting to
measure economic events.
d. An important corollary to the monetary unit assumption is
the stable monetary unit assumption.
5. Net income will result during a time period when:
a. assets exceed liabilities.
b. assets exceed revenues.
c. expenses exceed revenues.
d. revenues exceed expenses.

School of Business
6. The effects on the basic accounting equation of performing
services on account are:
a. increase assets and decrease owner’s equity.
b. increase assets and increase owner’s equity.
c. increase assets and increase liabilities.
d. increase liabilities and increase owner’s equity.
7. As of December 31, 1996, Stoneland Company has assets of Tk.
3,500 and owner’s equity of Tk. 2,000. What are the liabilities for
Stoneland Company as of December 31,1996?
a. Tk. 1,500.
b. Tk. 1,000.
c. Tk. 2,500.
d. Tk. 2,000.
8. The financial statement that reports assets, liabilities, and owner’s
equity is the :
a. income statement.
b. owner’s equity statement.
d. balance sheet.
c. statement of cash flow.
9. Which of the following items are liabilities of Jewllry Stores?
a. Cash.
b. Accounts payable.
c. Drawings.
d. Accounts receivable.
e. Supplies
f. Equipment.
g. Salaries payable
h. Service revenue.
i. Rent expense.
10. Noor Enterprises had a capital balance of Tk.158,000 at the
beginning of the period. At the end of the accounting period, the
capital balance was Tk.198,000.
a. Assuming no additional investment or withdrawals during
the period, what is the net income for the period?
b. Assuming an additional investment of Tk. 13,000 but no
withdrawals during the period, what is the net income for
the period?
Unit-1 Page-34

11. Presented below is the basic accounting equation. Determine the
missing amounts:
(a) Tk.90,000 Tk.50,000 ?
(b) ? Tk.48,000 Tk.70,000
(c) Tk.94,000 ? Tk.72,000
12. Given the accounting equation, answer each of the following
questions:
a. The liabilities of Bell Company are Tk.90,000 and the
owner’s equity is Tk.240,000. What is the amount of Bell
Company’s total assets?
b. The total assets of Dell Company are Tk.170,000 and its
owner’s equity is Tk.90,000.What is the amount of its total
liabilities?
c. The total assets of Totul Co. are Tk.700,000 and its liabilities
are equal to one half of its total assets. What is the amount of
Totul Co.’s owner’s equity?
13. At the beginning of the year, Jheel Company had total assets of
Tk.700,000 and total liabilities of Tk.500,000. Answer the
following questions:
1. If total assets increased Tk.150,000 during the year and total
liabilities decreased Tk.80,000, what is the amount of
owner’s equity at the end of the year?
2. During the year, total liabilities increased Tk.100,000 and
owner’s equity decreased Tk.70,000. What is the amount of
total assets at the end of the year?
3. If total assets decreased Tk.90,000 and owner’s equity
increased Tk.110,000 during the year, what is the amount of
total liabilities at the end of the year?
14. Presented below are three business transactions. On a sheet of paper,
list the letters a, b, c with columns for assets, liabilities, and
owner’s equity. For each column, indicate whether the transactions
increased (+), decreased (-) or had no effect (NE) on assets,
liabilities, and owner’s equity:
(a) Purchased supplies on account.
(b) Received cash for providing services
(c) Expenses paid in cash.
15. Follow the same format as Q.4 above. Determine the effect on
assets, liabilities, and owner’s equity of the following three
transactions:
(a) Invested cash in the business.

School of Business
(b) Withdrawal of cash by owner.
(c) Received cash from a customer who had previously been
billed for services provided.
16. Indicate whether each of the following items is an asset (A),
Liability (L), or part of owner’s equity (OE).
______ Accounts receivable _____Office supplies
______ Salaries payable _____ Owner’s investment
______ Equipment _____ Notes payable
Discussion Questions
1. “Accounting is ingrained in our society and it is vital to our
economic system.” Do you agree? Explain.
2. Identify and describe the steps in the accounting process.
3. (a) Who are internal users of accounting data?
(b) How does accounting provide relevant data to these users?
4. Distinguish between the two types of external users of accounting
data and give examples of each.
5. “Bookkeeping and accounting are the same.” Do you agree?
Explain.
6. What is the monetary unit assumption? What impact does inflation
have on the monetary unit assumption?
7. What is the economic entity assumption?
8. What is the basic accounting equation?
9. (a) Define the terms assets, liabilities, and owner’s equity.
(b) What items affect owner’s equity?
10. Can a business enter into a transaction in which only the left side
of the basic accounting equation is affected? If so, give an
example.
Exercises
1. The John Cleaners has the following balance sheet items:
Accounts payable Accounts receivable
Cash Notes payable
Cleaning equipment Salaries payable
Cleaning supplies John Capital.
Rent paid Interest received
Classify the accounts as to asset, liability, revenue and expenses.
Unit-1 Page-36

2. Li Wang Computer Timeshare Company entered into the
following transactions during May 1996.
(a) Purchased computer terminals for Tk.19,000 from Digital
Equipment on account.
(b) Paid Tk.4,000 cash for May rent on storage space.
(c) Received Tk.5,000 cash from customers for contracts billed
in April.
(d) Provided computer services to Brieske Construction
Company for Tk.3,000 cash.
(e) Paid Southern states power Co. Tk.11,000 cash for energy
usage in May.
(f) Li Wang invested an additional Tk.32,000 in the business.
(g) Paid Digital Equipment for he terminals purchased in (I)
above.
(h) Incurred advertising expense for May of Tk.1,000 on
account.
Instructions :
Indicate with the appropriate letter whether each of the transactions
above results in:
(a) an increase in assets and a decrease in assets,
(b) an increase in assets and an increase in owner’s equity,
(c) an increase in assets and an increase in liabilities,
(d) a decrease in assets and a decrease in owner’s equity,
(e) a decrease in assets and a decrease in liabilities,
(f) an increase in liabilities and a decrease in owner’s equity,
(g) an increase in owner’s equity and a decrease in liabilities.
3. The following information relates to Tone Kon Co. for the year
1996.
Tone Kon, Capital, January 1, 1996 Tk.45,000
Advertising expense 1,800
Tone Kon, Drawing, during 1996 5,000
Rent expense 10,400
Fees earned 50,000
Utilities expense 3,100
Salaries expense 28,000

School of Business
Instructions:
After analyzing the data, prepare an income statement and an owner’s
equity statement for the year ending December 31,1996.
4. Rick Stated is the sole owner of Deer Park, a public camping
ground near the Lake Mead National Recreation Area. Rick has
compiled the following financial information as of December 31,
1996.
Revenues during 1996 – camping fees Tk.147,000
Market value of equipment 140,000
Revenues during 1996- general store 40,000
Notes payable 60,000
Accounts payable 11,000
Expenses during ’96 150,000
Cash on hand 7,000
Supplies on hand 2,500
Original cost of equipment 115,500
Instructions
(a) Determine Rick Stead’s net income from Deer Park for 1996.
(b) Prepare a balance sheet for Deer Park as of December 31,1996.
Problems
5.
(a) On April 1, Laura Seall established the Seall Travel Agency. The
following transactions were completed during the month:
(b) Invested Tk.20,000 cash in Corner State Bank in the name of the
agency.
(c) Paid Tk.400 cash for April office rent.
(d) Purchased office equipment for Tk.2,500 cash.
(e) Incurred Tk.300 of advertising costs in the Chicago Tribune, on
account.
(f) Paid Tk.600 cash for office supplies.
(g) Earned Tk.9,000 for services rendered: Cash of Tk.1,000 is
received from customers, and the balance of Tk.8,000 is billed to
customers on account.
(h) Withdrew Tk.200 cash for personal use.
(i) Paid Chicago Tribune amount due in transaction (4)
(j) Paid employees salaries, Tk.1,200.
(k) Received Tk.8,000 in cash from customers who have previously
been billed in transaction (6).
Unit-1 Page-38

Instructions:
(a) Prepare a tabular analysis of the transactions using the following
column headings: Cash, Accounts Receivable, Supplies, Office
Equipment, Accounts Payable, and Laura Seall, Capital,
(b) From an analysis of the column, Laura Seal, Capital, compute the
net income or net loss for April.
6. Ivan Izo opened a law office, Ivan Izo, Attorney at Law, on July 1,
1996. On July 31, The balance sheet showed cash Tk.4,000,
Accounts Receivable Tk.1,500, Supplies Tk.500, Office
Equipment Tk.5,000, Accounts Payable Tk.4,200, and Ivan Izo,
Capital Tk.6,800. During August the following transactions
occurred.
(a) Collected Tk.1,400 of accounts receivable.
(b) Paid Tk.2,700 cash on accounts payable.
(c) Earned fees for Tk.6,400, of which Tk.3,000 is collected in
cash and the balance is due in September.
(d) Purchased additional office equipment for Tk.1,000, paying
Tk.400 in cash and the balance on account.
(e) Paid salaries Tk.1,500, rent for August Tk.900, and
advertising expenses Tk.350.
(f) Withdrew Tk.550 in cash for personal use.
(g) Received Tk.2,000 from Standard Bank money borrowed on
a note payable,
(h) Incurred utility expenses for the month on account Tk.250.
Instructions:
(a) Prepare a tabular analysis of the August transactions, beginning
with July 31 balances. The column heading should be as follows:
Cash + Accounts Receivable + Supplies + Office Equipment =
Notes Payable + Accounts Payable + Ivan Izo, Capital.
(b) Prepare an income statement for August, an owner’s equity
statement for August, and a balance sheet at August 31.

School of Business
7. Financial statement information about four different companies is
as follows:
A
Company
B
Company
C
Company
D
Company
January 1, 1996:
Assets
Liabilities
Owner’s equity
Tk.90,000
50,000
(a)
Tk.110,00
0
(d)
60,000
(g)
75,000
55,000
Tk.170,00
0
(j)
90,000
December 31,1996:
Assets
Liabilities
Owner’s equity
(b)
55,000
58,000
150,000
65,000
(e)
200,000
(h)
130,000
(k)
80,000
170,000
Owners equity changes
in year:
Additional investment
Drawings
Total revenues
Total expenses
(c)
25,000
350,000
320,000
15,000
(f)
420,000
385,000
10,000
14,000
(i)
350,000
15,000
20,000
520,000
(j)
Instructions:
(a) Determine the missing amounts.
(b) Prepare the owner’s equity statement for Petino Company.
(c) Write a memorandum explaining the sequence for preparing
financial statements and the interrelationship of the owner’s equity
statement to the income statement and balance sheet.
8. From the followings statements, pich up the most correct answer :
Which of the following statements about an account is true?
i) (a) In its simplest form, an account consists of two parts.
(b) An account is an individual accounting record of increases
and decreases in specific asset, liability, and owner’s equity
items.
(c) There are separate accounts for specific assets and liabilities
but only one account for owner’s equity items.
(d) The left side of an account is the credit or decrease side.
ii. Debits:
(a) increase both assets and liabilities.
(b) decrease both assets and liabilities.
(c) increase assets and decrease liabilities.
(d) decrease assets and increase liabilities.
Unit-1 Page-40

iii) A revenue account:
(a) is increased by debits.
(b) is decreased by credits.
(c) has a normal balance of a debit.
(d) is increased by credits.
iv) Accounts that normally have debit balances are:
(a) assets, expenses, and revenues.
(b) assets, expenses, and owner’s capital.
(c) assets, liabilities and owner’s drawings.
(d) assets, owner’s drawings, and expenses.
v) Which of the following is not part of the recording process?
(a) Analyzing transactions.
(b) Preparing a trial balance.
(c) Entering transactions in a journal.
(d) Posting transactions.
vi) Which of the following statements about a journal is false?
(a) It is not a book of original entry
(b) It provides a chronological record of transactions.
(c) It helps to locate errors because the debit and credit amounts
for each entry can be readily compared.
(d) It discloses in one place the complete effect of a transaction.
vii) A ledger:
(a) contains only assets and liability accounts.
(b) should show accounts in alphabetical order.
(c) is collection of the entire group of accounts maintained by a
company.
(d) is a book of original entry
viii) Posting:
(a) normally occurs before journalizing.
(b) transfers ledger transaction data to the journal
(c) is an optional step in the recording process.
(d) transfers journal entries to ledger accounts.

Financial Accounting Book (MBA) Level

Financial Accounting Book (MBA) Level

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